Abstract: The introduction of prospective payment system (PPS) based on diagnostic related groups (DRGs) has had a significant impact on hospitals. To determine the impact of PPS on nursing homes, the authors studied the activity of a Veterans Administration teaching nursing home (admissions, acute hospital transfers, and discharges) during 1 year preceding implementation of DRGs and for 3 consecutive years following implementation of DRGs. In 1983, pre-DRGs, a total of 36 patients, were admitted to the nursing home. Following implementation of DRGs, a sevenfold increase was noted in the number of patients admitted when comparing 1983 and 1986, with the monthly average of patients admitted increasing from 3 in 1983 to 9.7, 22, and 23.8 in 1984, 1985, and 1986, respectively. Associated with the increase in patients admitted following DRGs was an increase in patients requiring transfer to the acute hospital, within 30 days of admission to the nursing home. In 1986, approximately 27% of patients admitted to the nursing home required transfer to the acute hospital within 30 days of their admission. The number of patients discharged from the nursing home also increased following DRGs. None of the patients admitted to the nursing home in 1983 were discharged within 30 days of admission. Subsequent to introduction of DRGs, an average of two patients per month were discharged within 30 days of nursing home admission. The authors conclude that since introduction of DRGs there has been a significant and abrupt increase in the activity of certain nursing homes, with an increase in the number of patients admitted, the number of patients transferred to acute hospitals, and the number of patients discharged. Further studies are necessary to determine if such changes are widespread and to determine the effect of such changes on patient care.